INTERNATIONAL BUSINESS

(Assignment-2)

Case Analysis
Topic: CHINA- Legal Growing
Pains in a land of Opportunity

Submitted by:
Himani Gupta
Roll No: 15
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PGDM- IB

1.) Outline the major changes in the International business

environment over the last 7 decades from an MNEs perspective
which have significantly impacted business landscape in China for
the MNE's?
The People's Republic of China (PRC) commonly known as China, is the
most populous state in the world with over 1.3 billion people. China is a
single-party state governed by the Communist Party of China (CPC). Its
capital city is Beijing. The People's Republic of China is the world's second
largest economy after the United States by purchasing power parity
($9.05 trillion in 2009) and the world's fastest-growing major economy,
with average growth rates of 10% for the past 30 years. It is also the
second largest trading nation in the world and the largest exporter and
second largest importer of goods. Factors like these make it imperative for
any MNE to invest in this country.
China has history of nearly 4000 years and is one of the worlds oldest
civilization.China possessed one of the most advanced societies and
economies in the world prior to 19th century ; but through successive
dynasties it then missed the industrial revolution and began to decline. In
1949, after a major combat ended in the Chinese Civil War, two states
calling themselves "China" emerged:
1) The People's Republic of China (PRC), established in 1949,
commonly known as China, has control over mainland China and the
largely self-governing territories of Hong Kong (since 1997) and
Macau (since 1999).
2) The Republic of China (ROC) established in 1912 in mainland China,
now commonly known as Taiwan.
The major changes in the International Business environment over the last
seven decades that have impacted the business landscape in China for
the MNEs are
1940-1949:This decade saw the sorrowful World War 2. The consequences of the war
lingered well into the second half of the decade. The decade also saw the
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early beginnings of new technologies like computers, nuclear power and

jet propulsion. In this decade (1949), the Chinese Communist Party led by
Mao Zedong, stormed into power in China overpowering the rule of the
king. But even now the countrys relation towards international business
remained hostile. The Government prohibited foreign investment and
restricted foreign trade. Thus hampering the free trade and discouraging
the foreign companies to start operations in China. A full scale civil war
took place in china (1946-1949), making the internal environment hostile
an unfavourable for the foreign companies. Thus, not many companies
were interested to do business in China.
1950-59 :In 1950 China saw a cessation of major military hostilitieswith the newly
founded People's Republic of China controlling mainland China, and the
Republic of China's jurisdiction being restricted to Taiwan, Penghu, Kinmen,
Matsu and several outlying Fujianese islands.
The Constitution of 1954 drastically curtailed the role of Non-Communists.
The Great Leap Forward which was designed to overcome the
backwardness of China's economy, industry, and technology severely
backfired and together with bad agricultural seasons led to severe loss of
lives and and unstable environment from an MNEs point of view.

1960-1969:This decade also saw the brutality of Vietnam War, The Bay of Pigs
Invasion, Portuguese colonial war, Arab-Israel conflict and the Algerian
War. After the Great Leap Forward Mao Zedong in the 1950s Mao started
the Cultural Revolution in China in May 1966 which continued till the mid
of next decade. It was stated as one of the most damaging economic,
social and political experiment in the history of the world. . The Cultural
Revolution, motivated by power struggles within the Party and a fear of
the Soviet Union, led to a major upheaval in Chinese society. This was the
decade of one political entity trying to establish its power in the whole of
China.
1970-1979:In 1976, at the end of the Cultural Revolution, China's planned economy
was in ruins and its people barely surviving. However, in 1978, China was
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to witness one of the most rapid periods of change in her 5,000 year
history as reformer Deng Xiaoping initiated free market reforms that
transformed China's economy. Only 30 years later, China had developed
from an economically desolate country ruled by a totalitarian government
into an industrial powerhouse, rapidly overtaking developed western
nations in recession. The agent of this dramatic change, Deng Xiaoping, is
sometimes known as "Deng Gong" or the venerated Deng, for his
achievements.

1980-1989:Deng had maneuvered himself to the top of China's leadership by

1980and also embarked China on the road to Economic Reforms and
Openness . Private businesses, which were banned in the Mao Era for
being "Capitalist exploiters, were reinstated in the Deng Era. Another
innovation instated during this period was the Chengbao system or
contracting system, in which state assets were given to private operators,
who gave the state the money needed for expenses as well as a share of
the profits. This system was also rapidly adopted; in the 1980s and 1990s,
many schools, hospitals and even bus lines passed from the state to
private operators. Policies that began with the de-collectivization of the
countryside, followed with industrial reforms aimed at decentralizing
government controls in the industrial sector. Due to increased
liberalization increasing number of foreign companies especially from
Japan, Germany etc started relocating to cost effective destinations like
China. China just opened its business to foreign world in a step by step
process inviting companies from US, Germany etc to invest in their
country. Also its cheap labour and vast markets attracted the MNEs.
1990-1999:In the 1990s, many state enterprises were privatized and private
individuals were allowed to create companies. In 1990, the Shanghai
Stock Exchange was reopened after Mao first closed it 41 years earlierThe
government of the People's Republic of China announced major
privatization of state-owned industries in September 1997. The 1990s saw
two foreign colonies returned to China, Hong Kong from Britain in 1997,
and Macau from Portugal in 1999. Hong Kong and Macau mostly continued
their own governance, retaining independence in their economic, social,
and judicial systems. After a decade of talks, China was finally admitted
into the World Trade Organization. Standards of living improved
significantly, although a wide urban-rural wealth gap was opened, as
China saw the reappearance of the middle class.
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There was a hope for the betterment of relations between USA and China
as Jiang and President Clinton exchanged state visits, but Sino-American
relations took very sour turns at the end of the decade.
2000-2009:By 2001, China became a member of the World Trade Organization, which
has boosted its overall trade in exports/importsestimated at $851 billion
in 2003by an additional $170 billion a year. Annual inflows of foreign
direct investment rose to nearly $108 billion in 2008. The restructuring of
the economy and resulting efficiency gains have contributed to a more
than tenfold increase in GDP since 1978. China in 2009 stood as the
second-largest economy in the world after the US, although in per capita
terms the country is still lower middle-income. China emerged as one of
the worlds super power in this decade. The most significant evolution of
the early 2000s in the economic landscape was the long-time predicted
breakthrough of economic giant China that had a double-digit growth
during nearly the whole decade. China (U.S. $4.98 trillion) went from
being the sixth largest to the third largest economy, and in 2009
contributed to 8.6% of the world's economy, up from 3.3% in 1999 by
nominal price or a rise from 6.9% to 12.6% adjusted for purchasing power.
In terms of purchasing power parity it became the second largest in the
world.
In the second quarter of 2010, China's economy was valued at $1.33
trillion, ahead of the $1.28 trillion that Japan's economy was worth.
Preliminary estimates China's 2010 total GDP to be worth $5.7 trillion. [41]
China could become the world's largest economy (by nominal GDP)
sometime as early as 2020.[42]
China is the largest creditor nation in the world and owns over 25% of US
Treasury Bonds.
China recently emerged as the second largest economy in the world
surpassing Japan. Based on the current growth rate China is expected to
ever take US as the largest economy in the world by 2025. The current
market potential, market performance, infrastructure, resources and
Strategic positioning made the country the best place in the world for
investment currently.

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2.) Explain the key changes in the China's political environment

decade by decade commencing 1940's. Which are the major
milestones in China's transition to a market based economy?
In China it is the rule of man that rules the land; initially it was the rule of
the king which later became the rule of communist party of China. No
political party exists in the country other than the ruling communist and
hence there is no democratic election in country. The various political
environment and the key aspects that happened in China are

1940-1949:Prior to 1949, China had not developed a stable national legal system
along the modern models of Western Europe, North America and Japan.
The problems of rehabilitating the formerly Japanese-occupied areas and
of reconstructing the nation from the ravages of World War II were huge.
After its victory in the Chinese Civil War, the Communist Party of China
(CCP) led by Mao Zedong gained control of most of Mainland China. On 1
October 1949, they established the People's Republic of China as a
Socialist State headed by a "Democratic Dictatorship" with the CCP as the
ruling political party, thus, laying claim as the successor state of the ROC.
The central government of the Chinese Nationalist Party led by Chiang Kaishek retreated to the island of Taiwan that it had administered at the end
of World War II, and moved the ROC government there. Major armed
hostilities ceased in 1950 but no peace treaty has been signed.
1950-1960: This decade saw Mao Zedong gaining control of most of
Mainland China. He established the People's Republic of China as a
Socialist State headed by a "Democratic Dictatorship". This was more of a
rebuilding decade for China. Even though things were getting better, but
still the damage done by the war was too evident and the environment
was still bad for business. In the early 1950s, the PRC undertook a
massive economic and social reconstruction which was generally
welcomed by a population desperately longing for stability. The new
leaders gained popular support by curbing inflation, restoring the
economy, and rebuilding many war-damaged industrial installations. To
lead the social revolution, the Communist Party of China, which had
legitimized itself into the guiding force of socialist China, had extended its
rank-and-file to all Chinese regions and set up various institutions to lead
changes in rural areas, the military, and the bureaucracy.

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1960-70: The disaster of the Great Leap Forward decreased Mao's stature
as national leader and even more so as an economic planner. Mao was
subject to criticism within the Central Committee. In the early 1960s,
President Liu Shaoqi, Party General Secretary Deng Xiaoping, and Premier
Zhou Enlai took over direction of the party and adopted pragmatic
economic policies at odds with Mao's communitarian vision, and
disbanded communes, attempting to rework the system to pre-Leap
standards. In 1965, Tibet became autonomous region. The Cultural
Revolution started which continued for a decade and was stated as one of
the most damaging economic, social and political experiment in the
history of the world.

1970-1979:Radical activity subsided by 1969, but the Chinese political situation

began to antagonize along complex factional lines. In 1971, under UN
resolution 2758, the representatives of Chiang Kai-shek to the United
Nations were expelled from the intergovernmental organization. With the
expulsion of the representatives, and effectively the Republic of China, the
representatives of the People's Republic of China were invited to assume
China's seat on the UN Security Council, the UN General Assembly and
other United Nations councils and agencies. This decade also witnessed
the death of Mao after which Maos followers began to rethink countrys
economic posture. The power transition from Hua to Deng was confirmed
in December 1978, at the Third Plenum of the Central Committee of the
Eleventh National Party Congress, a turning point in China's history. In
1978, the country took the first step towards economic modernization and
liberalization by enacting the Law on Joint Ventures using Chinese and
foreign investments. China transformed from a planned economy to a
mixed economy with an increasingly open market environment.

1980-1989:Liberal forces began manifesting with different forms of protest against

the Party's totalitarian leadership, which in 1989 lead to weeks of
spontaneous protests in the Tiananmen Square protests. The government
imposed martial law and sent in military tanks and soldiers to suppress
the demonstrations, this lead to the suspension of formal ties by the
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western countries with China as they were directly responsible for the
military curfew and bloody crackdown.
1990-2000: It was in late 90s that the government started privatization
of badly performing SOEs. This decade showed China consolidating its
position as an attractive destination for MNEs, an attractive market and
tremendous scope of profits for MNEs.
2000 - Present: Major 5 year economic plan was launched in 2005. China
grew by approximately 10% through out. Post recession, the world sees
China as one of the engine that will pull the world out of recession. The
most significant evolution of the early 2000s in the economic landscape
was the long-time predicted breakthrough of economic giant China that
had a double-digit growth during nearly the whole decade.
The People's Republic of China claims to have succeeded the Republic of
China as the sole legitimate governing authority of all of China, which,
from the official viewpoint of the People's Republic of China, includes the
island of Taiwan.

3.) Explain the key aspects of China's legal environment and its
implications for MNE's?
China launched one of the biggest legal reforms in history in 1978. China
is fast becoming the global investment hotspot and more and more
foreign investors are expanding their business operations into the country.
This situation may be attributed to China's competitive production cost,
sound macro-economic policies, strong economic growth, and favourable
business environment. The key aspects of Chinas legal environment and
its implications for the MNEs are :

1)

The Legal Environment for Foreign Investment in China

China has established a legal system that is being strengthened by

numerous domestic legislations as well as bilateral and multilateral
agreements to encourage foreign investment and protect the legal
interests of foreign investors. With liberalization China is increasingly
taking part in many international trade pacts. China has enacted new laws
and constantly revised existing ones to improve its legal environment for
investment. China is gradually creating a legal environment that is
favourable to foreign commercial interests. The legal framework
governing foreign enterprises comprises three basic legislations. To
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supplement these laws, a series of regulations and measures concerning

the establishment, management, reform, purchase, investment,
reinvestment, termination, and liquidation of foreign enterprises had been
introduced. Industrial policies and guidelines on foreign investments are
attempts by which China seeks to regulate the entry of foreign capital. In
order to meet its obligations to the WTO, China allows foreign participation
in many more industries, including the hitherto state-controlled
telecommunication industry, and the financial, insurance, commercial and
foreign trade.
2)Difference between State and Central Legal System
The central Governments efforts to lower trade barriers and increase
competition by allowing foreign firms to control local operations only to be
thwarted by local officials who fear such initiatives will result in hometown
unemployment and instability.
3) Bureaucratic Society
Due to the bureaucratic structure of the society, any application has to
pass through a lot of layers of the bureaucratic authority of the
Communist Party.
4)Local Interest
In China local economic interests often take precedence over other
interests and local governments are prone to act in ways as to protect
their own interests. The overlapping judicial and administrative systems
mean that the judicial department at the local level is subordinate to both
the local government and the judicial authority at a higher level.
5) High Legal Business Cost
Legal costs are part of the cost of doing business. The need to navigate
through legal and administrative passages will invariably add to the cost
of doing business. Legal commercial costs are incurred by the need to
disentangle the uncertainties arising from policy changes, practices that
deviate from stipulations of laws, or arbitrary enforcement decisions. This
cost is distinct from the normal operation cost of an enterprise and
represents an added burden due to legal causes.
6) Hidden Rules and Creditability Gap
The issue of "hidden rules" has attracted much attention in recent years.
"Hidden rules" are applied arbitrarily and are generally violations of the
laws. In reality, these rules have become the "norms" by which business
enterprises are compelled to observe in the conduct of commercial
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activities. Foreign investors have often to operate in a "legal" environment

that has a negative impact on business. A survey in 2003 revealed that
more than a third of the investigated enterprises were affected by
dishonest dealings such as failure to repay loans, infringement of
contracts, and production and sale of faked goods.

7) IPR
Intellectual property rights are a form of foreign capital investment and
require legal protection. Upon entry into WTO, China signed the
Intellectual Property Agreement Relevant to Trade and similarly amended
corresponding laws and regulations. China is a party to almost all relevant
agreements on the protection of intellectual property rights. Despite the
existence of legal provisions, the protection of intellectual property rights
is still ineffective and infringements persist.
8) Foreign direct investment (FDI)
The government introduced legislation and regulations designed to
encourage foreigners to invest in high-priority sectors and regions. Since
the early 1990s, China has allowed foreign investors to manufacture and
sell a wide range of goods on the domestic market, and authorized the
establishment of wholly foreign-owned enterprises.
9) Problems Arising from the Legal Environment
Although China has established a comparatively satisfactory legal
framework governing foreign investments, yet many problems still remain.

The current Corporation Law and Bankrupt Law are yet to be

consolidated.
Laws and regulations relating to foreign-capital mergers and
acquisitions are less than perfect.
The current foreign exchange management system, especially the
control of capital account, often compels transnational companies
to adopt an evasion method to invest by setting up a foreigncapital enterprise in China and then to expand their operations
through mergers and acquisitions
There are also insufficient legal provisions to regulate the behaviour
of the market. For example, there is as yet no anti-trust law.

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4.) Using key macroeconomic parameters, comment on China's

economic development over the last 3 decades. What was
government's role in China becoming world's 2nd largest
economy? What are the key challenges government of China will
face 2010 to 2015? Why?
China changed a lot in terms of economy in the past century. to the
pioneering work and arduous efforts by the People's Republic of China
over the past 50 years, especially over the last 30 years or so since the
beginning of reform and opening-up of the economy, the overall national
strength and the living standards of the people have been improved in no
small ways.
The key macroeconomic parameters that lead to the economic
development of China over the last 3 decades are
Chinas Population:Chinas population has played an important role in shaping Chinas
political, social and cultural environment. With more than 1.3 billion
consumers and a huge labour force of over 800 million workers makes
china a very attractive destination for the foreign investors and
contributes significantly towards the economic development. The cheap
labour force attracts the MNEs to open up manufacturing units in China,
thus increasing the FDI.
GDP:-

Chinas GDP have risen from Rmb362.4 billion in 1978, at the start of the
reform period,
to Rmb30 trillion in 2008. During the 1990s, living standards continued to
rise, as evidenced by the proliferation of consumer durables, especially

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among the urban population. Continuing FDI inflows helped boost foreign
exchange reserves to record heights in the late 1990s.
FDI:As a result of the active government promotion through various
policy measures, FDI in China has grown rapidly since the 1978, especially
in the 1990s. From early 1980s to late 1990s, contracted FDI inflow to
China has grown from about US$ 1.5 billion a year to more than US$ 40
billion a year in 1999. During the same period, Chinas actual use of FDI
grows from about US$ 0.5 billion to more than US$ 40 billion a year. China
has been the world largest FDI recipient among developing countries since
early 1990s. In recent years, FDI to China accounts for 1/4 to 1/3 of total
FDI inflow to developing countries. Foreign investment has become an
important source for China.s investment in fixed assets.
FDI can also lead to indirect productivity gains through spillovers. For
instance, multinational firms may increase the degree of competition in
host-country markets which will force existing inefficient firms to invest
more in physical or human capital. MNCs may also provide training of
labour and management which may make them become available to the
economy in general.
Rising World Trade Power :In the early 1950s, China had trade relations with only about 60 countries
and regions. Its trade partners were mainly the former Soviet Union and
other socialist countries, because of the economic blockade by the West.
At present, the country's trade partners have increased to 227. In the
early 1950s, China's annual import and export values stood at only
several hundreds of millions of U.S. dollars. By 1998, the figure had risen
by more than 300 times to hit 323. 9 billion dollars. China is the world's
11th largest trade power in 1998, compared to the 32nd in 1978.
Economic reforms:Included the decentralization of economic production, led to substantial
growth in Chinese household savings (these now account for half of
Chinese domestic savings). As a result, savings as a percentage of GDP
has steadily risen; it reached 49% in 2004, among the highest savings
rates in the world.
Inflation:Inflation in China soared during the 1930s and 1940s, when the countrys
economy became highly unstable. In the early 1950s, the government
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implemented a series of recuperative measures, such as currency reforms,

nationalization of banking institutions and the strict regulation of product
prices and money supply. These policies continued till 1978. Owing to this,
China succeeded in achieving record breaking price stability. Between
1950 and 1978, there was only a marginal increase of 0.6% in the retail
prices of consumer products. As the government reduced its control,
Chinas inflation reappeared. In 1980, urban residents were hit by a 7.5%
inflation rate. The current inflation rate is 3.30 % but reports say that the
inflation rate would increase to around 5 % by the end of the year.
The key challenges that the Government of China will face are:
1) Human rights violation: The Xingjian riots have shown the world
the real state of human rights in China. This reality poses a great
challenge for Chinese authorities to consolidate MNEs trust in
China.
2) Intellectual Property Rights: This remains one of the biggest
concerns of MNEs when they work in China. This culture of using
intellectual property without paying for it is engrained in Chinese
working culture. This has resulted in MNEs making huge losses.
3) Public unrest over pollution, government corruption, and growing
income inequality poses threats to social stability over such
issues as pollution, government corruption, and land seizures.
4) The lack of the rule of law in China has led to widespread
government corruption, financial speculation, and misallocation
of investment funds. In many cases, government connections,
not market forces, are the main determinant of successful firms
in China.
5) Economic development has been more rapid in coastal provinces
than in the interior, and approximately 200 million rural
labourers and their dependents have relocated to urban areas to
find work.
6) One demographic consequence of the "one child" policy is that
China is now one of the most rapidly aging countries in the
world.
7) Deterioration in the environment - notably air pollution, soil
erosion, and the steady fall of the water table, especially in the
north - is another long-term problem.

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